How Can You Be Confident When the Fed Is Not?

The Federal Reserve just met for its Federal Open Market Committee meeting and I can tell you I was more nervous after reading the Fed statement than before.

It became clearer the Fed is quite nervous about the condition of the economy and where it is heading. The Fed admitted that the U.S. economy is growing at a slower pace than they had hoped it would. Hey, no surprise here. We realized it. So did the Fed, but they needed evidence.

How about the unemployment rate at over nine percent? The Fed feels that jobs will be an ongoing issue going forward with the Unemployment Insurance (UI) rate holding at around nine percent for the short to medium term. Job creation continues to be stagnant, and it has worsened, according to the Fed. My economic analysis is that jobs will be a critical risk for the economy.

The Fed also said that “household spending has flattened out, investment in nonresidential structures is still weak, and the housing sector remains depressed.” No kidding! The mortgage and credit crisis has killed the housing market, and it will be years before we see any sustained recovery. The S&P Schiller home price index continues to point to declining home prices across the nation with little optimism of rebounding prices.

The problem is the high record levels of foreclosures and short sales. Homeowners are house poor. Many have mortgages below the value of their homes. So do you blame them for moving out and leaving their vacant homes? No, you probably don’t—and there is still little help from the government and financial sector, which has its own issues.

My opinion is that at least the Fed has admitted the problem; so, now, armed with more cash to use from the higher debt ceiling, there are options for the possibility of QE3. Of course, this will also add to the massive debt that could swell to over $16.0 trillion. Just take a look at the national debt clock—it’s scary. At least interest rates will be low.

My view is that the country will face difficult times going forward. The Fed has its hands full to try to turn around the massive U.S. economic engine.

The Standard & Poor’s downgrade of the U.S. credit to AA-plus from triple-A is worrisome, as the country may have to increase its risk-adjusted yields to attract buyers of debt. This in turn would place extra burden on the U.S. Treasury and continue to make it difficult to deal with the massive debt and deficit. The S&P 500 is also looking another potential downgrade to AA in November. The rating agency is also looking at U.S. local and state governments with exposure to these debts.

While there is a risk of another recession, the likelihood is low at this point. However, it could pick up if the U.S. economy falters. JP Morgan Chase & Co (NYSE/JP) downgraded its estimate for the U.S. Q3 GDP to 1.5% from 2.5%.

The fear now is the occurrence of another recession in the U.S. and globally. It’s also feared that the downgrades could be enough to trigger another sell-off and financial collapse.

At this juncture, the near-term upside potential appears to be limited unless there are new reasons to entice investors to buy.